"The Permanent Portfolio" - questions & observations

[troysapp]

I’ve just finished reading “The Permanent Portfolio”, and I have a few questions and observations:

1. On page 25 the returns of a 60/40 portfolio are compared to the Permanent Portfolio. Was the 60/40 portfolio rebalanced over the time period shown? Also, the book discusses storage, tax, insurance, and buying/selling commissions associated with owning gold. Taken together these expenses can be huge. Were these expenses considered when calculating the hypothetical Perm Portfolio return?
2. Page 144 says “gold does best under high-inflation scenarios” and “in terms of purchasing power protection, gold has a long term track record that is unmatched”. Are these statements true? How long is “long term”? From the evidence I’ve seen it appears that gold tends to react favorably to inflationary environments, but not always.
3. On page 226 VT is recommended for equity exposure, however on page 212 it’s written that “you should hold stocks mostly in the country where you live. The exception is if you live in a country with a very small economy and stock market.” How does one reconcile these recommendations? And what evidence is there to support holding overweight home country equity exposure?
4. Note to authors: Several line charts are depicted as lineal, but I think logarithmic be more useful. For example, see Figures 4.2, 5.4, & 9.1
5. Finally, the book examines returns back to the beginning of 1972. To me this seems much too short of time to come to any conclusions (for example, most of this time was during the great bull bond market). I also realize that US gold price info for the nearly 40 years pre-1971 is not available (or necessarily good), but if foreign gold prices are available it would be useful to have a longer examination of the Perm Portfolio characteristics.

As a side, the book also recommends holding gold in offshore accounts. I’m personally acquainted with a person that held approx $5m (or approx 5% of his net worth) of gold bars in an Italian vault. Early 2009, when things appeared their worst, he decided to have the gold bars shipped from Italy to the US. The shipping, security, and marine insurance costs were huge. His now deceased father originally purchased the gold in the early 1970s (and probably held offshore since he was worried about the US government calling gold stores again), but when things went bad he wanted his gold close by.

All-in-all the “Permanent Portfolio” is a very interesting theory. A sort of "barbell" approach. I’m just not yet convinced that it’s the right approach for me.

[steve roy]

I've looked at the Permanent Portfolio for years. After due consideration, I opted for a Larry Swedroe approach to my portfolio, but I do think the Harry Browne PP has merit.

William J. Bernstein, no slouch in the investing department, says this about the PP:

http://www.efficientfrontier.com/ef/0adhoc/harry.htm

You should note that Dr. Bernstein, while complimentary about the Permanent Portfolio, opts to own zero gold. (As is often said on this site, "There are many roads to Dublin" ... or Cucamonga, as the case may be.)

[Buddtholomew]

I’ve just finished reading “The Permanent Portfolio”, and I have a few questions and observations:

1. On page 25 the returns of a 60/40 portfolio are compared to the Permanent Portfolio. Was the 60/40 portfolio rebalanced over the time period shown? Also, the book discusses storage, tax, insurance, and buying/selling commissions associated with owning gold. Taken together these expenses can be huge. Were these expenses considered when calculating the hypothetical Perm Portfolio return?
2. Page 144 says “gold does best under high-inflation scenarios” and “in terms of purchasing power protection, gold has a long term track record that is unmatched”. Are these statements true? How long is “long term”? From the evidence I’ve seen it appears that gold tends to react favorably to inflationary environments, but not always.
3. On page 226 VT is recommended for equity exposure, however on page 212 it’s written that “you should hold stocks mostly in the country where you live. The exception is if you live in a country with a very small economy and stock market.” How does one reconcile these recommendations? And what evidence is there to support holding overweight home country equity exposure?
4. Note to authors: Several line charts are depicted as lineal, but I think logarithmic be more useful. For example, see Figures 4.2, 5.4, & 9.1
5. Finally, the book examines returns back to the beginning of 1972. To me this seems much too short of time to come to any conclusions (for example, most of this time was during the great bull bond market). I also realize that US gold price info for the nearly 40 years pre-1971 is not available (or necessarily good), but if foreign gold prices are available it would be useful to have a longer examination of the Perm Portfolio characteristics.

As a side, the book also recommends holding gold in offshore accounts. I’m personally acquainted with a person that held approx $5m (or approx 5% of his net worth) of gold bars in an Italian vault. Early 2009, when things appeared their worst, he decided to have the gold bars shipped from Italy to the US. The shipping, security, and marine insurance costs were huge. His now deceased father originally purchased the gold in the early 1970s (and probably held offshore since he was worried about the US government calling gold stores again), but when things went bad he wanted his gold close by.

All-in-all the “Permanent Portfolio” is a very interesting theory. A sort of "barbell" approach. I’m just not yet convinced that it’s the right approach for me.

You can direct your questions to the authors of the Permanent Portfolio book at http://www.crawlingroad.com/forum. Craigr and MediumTex co-authored the book and they are frequent participants in most, if not all, of the topics discussed on the forum.

[Clive]

Take any number of assets that historically provided similar positive real gains over a period of time, such as

Annualised real gains 1972 - 2011
5.11% Stocks
4.02% Long Term Treasury
4.36% Gold

and blend them any which way you choose and likely you'll get a reasonable outcome. Then consider the likelihood of those historic average gains being sustained into the future. That return on stocks is in keeping with its longer term average viewtopic.php?f=10&t=108045 those returns on LTT and gold however are perhaps above longer term averages - there is a risk that buying at recent levels might be buying LTT and gold relatively high (but not to say that they might not rise yet higher still).

Gold might track inflation over very long periods, but it does so with some pretty wild volatility, and can stay low for decades. Buy and sell at the right times and it can make fantastic real gains. Buy and sell at the wrong times and it will have lagged inflation by a long shot (1981 to 2001 for example it lost -7.2% annualised real).

Also ask yourself what taxes might have fallen due on the assets - consider net real (after taxes and inflation) as a better indicator of how a portfolio might actually have performed (protected or grown purchase power). In the UK for example, in the mid 1970's/early 1980's we didn't have tax efficient options available, and whilst gross cash and long dated gilt yields were somewhat comparable to double digit inflation figures, taxes on income were also up at around 35% levels. 15% inflation, 15% cash interest (and/or LTT yield), 35% tax on income = -5% net real.

Compare the Permanent Portfolio's choice of holding 50% in a STT/LTT barbell with that of holding 50% in 5 year T - since 1972 there was little difference evident. Buying into LTT's back when yields were in double digits made good sense, now ???

Professor Alex Shahidi's eBalanced portfolio (PDF) is perhaps something that you might like to read, and if you specifically want to hold some gold, maybe swap some of the commodity holdings for gold, or maybe even hold it separately.

The Permanent Portfolio reduces holdings as prices rise (adds when prices decline) i.e. it anticipates mean reversion. Mean reversion however doesn't always occur and in having perhaps reduced (sold some) gold in the early stages of a sizeable up-run (crisis), you will have weakened the crisis hedge. Better perhaps to hold less gold initially, but doing so with a view to hanging onto it no matter what (buy and hold) - excepting extreme conditions when selling that gold might be an appropriate choice. Did gold hedge in the 1930's. Nope. The Fed bought all public gold at $20.67 in 1933 before raising the price 70%.

[Occupier]

The PP is a unusual portfolio who'es attraction is based on events unlikely to occur in the future. Dave

[Reubin]

Clive, I sent you a PM.

[craigr]

I’ve just finished reading “The Permanent Portfolio”, and I have a few questions and observations:

Thanks for reading the book [disclosure: I'm one of the authors]

1. On page 25 the returns of a 60/40 portfolio are compared to the Permanent Portfolio. Was the 60/40 portfolio rebalanced over the time period shown? Also, the book discusses storage, tax, insurance, and buying/selling commissions associated with owning gold. Taken together these expenses can be huge. Were these expenses considered when calculating the hypothetical Perm Portfolio return?

The 60/40 portfolio was chosen because it's kind of a "standard" in the industry in terms of simplicity and performance. The numbers assumed rebalanced each year. Because there are an infinite number of portfolio combinations one can select, we used the 60/40 because it is easy to implement and offers good performance compared to most of what the professional finance industry sells to people.

The expenses of the Permanent Portfolio are not actually huge at all. Gold is rarely rebalanced. Same for the other assets. Maybe in a big bull market you'll do it every few years or so. I have been running the portfolio for years and annual expenses are no worse than any other passive strategy I've seen or used in the past. I say this based on real-world experience because I eat my own dog food. Consider:

- Own a cheap broadly based index fund. Expense ratio is perhaps 0.10% a year now.
- Own your Treasury bonds directly so you don't use a fund. Expense ratio is 0%. Some brokerages even allow free trades to a certain amount.
- Own a cheap Treasury Money Market fund again with expense ratio well under 0.20%
- Own gold directly, with an ETF, or overseas if you want to go full monty. If you own it directly there is an initial cost, but after that you can store it at bank with a very cheap safe deposit box. If you own an ETF you pay around 0.30% or so if I recall. If you own overseas you may pay 1% a year or less depending on the value.

Taken altogether you can run the portfolio for under 0.30-0.40% total expenses. It can actually be done for probably less than 0.20% in many cases now.

2. Page 144 says “gold does best under high-inflation scenarios” and “in terms of purchasing power protection, gold has a long term track record that is unmatched”. Are these statements true? How long is “long term”? From the evidence I’ve seen it appears that gold tends to react favorably to inflationary environments, but not always.

That's going to stir up a huge debate here. I think when the chips are down and currencies are having a problem, or people think it's going to have a problem, you better be holding some hard assets. The hard asset that works best is gold because it is a monetary metal (that's why central banks own it themselves). I say this based on my experience in traveling to around 25 countries in my life and study of financial history in markets all over the planet where paper currencies had hiccups.

Gold is a fail-safe asset in the portfolio. It is not going to grow like stocks and bonds because it has no internal rate of return. I do not dispute this. What I do suggest though is that gold has a much different risk profile than stocks and bonds and this can aid tremendously for diversification. Especially if that diversification is needed in a crisis.

I think it's a really good idea to have some of your profits from stocks and bonds as well as other savings stored in a way that has a long history of surviving pretty hectic times. After all, sometimes stocks and bonds are not providing real after-inflation returns as has happened in the past. In that case, gold may be the only asset you have that's growing in excess of actual inflation. Not just this, but gold as an asset can be stored overseas as we discuss in the book to give you geographic diversification against natural or manmade disasters.

But mainly, gold is an insurance asset and also an asset that tends to do well when stocks and bonds are not. However, it can go into the doghouse as well and that's when the stocks and bonds can take up the slack historically speaking.

3. On page 226 VT is recommended for equity exposure, however on page 212 it’s written that “you should hold stocks mostly in the country where you live. The exception is if you live in a country with a very small economy and stock market.” How does one reconcile these recommendations? And what evidence is there to support holding overweight home country equity exposure?

Here's the deal about this. The Permanent Portfolio has a much different view on diversification than other approaches. Specifically, it is tied to economics and monetary policy in a world run by politicians and central banks (which leads to prosperity, inflation, recession, and deflation). These policies greatly affect the markets of each country individually. In effect, I think it is silly to say "The World is Flat" as has become recent mantra. A bad economy in the U.S. does not mean a bad economy in Australia for instance. Likewise, buying a bunch of stocks in Brazil because someone said it's the great thing coming overlooks very real risks compared to investing in a more stable and far less corrupt stock market like the U.S.

Finally, if you are in the U.S. you have a huge presence all over the planet already because U.S. companies still dominate. I can go to any country on this planet and I probably flew there in a Boing Jet. The locals are driving American cars in many places. They are drinking Coca Cola. They are on the Internet with Cisco routers and Dell Computers running Microsoft Windows. They go down to Starbucks wearing their Nikes. Etc. So for a U.S. investor there is not as strong a case for international exposure. IMO.

But with the above said, if you wanted to punt and just own domestic and international I think that the Vanguard Total (VT) fund that owns both US and International is a good way to do it. Even then, owning a lot of international opens you up to currency risk so that's always with you.

5. Finally, the book examines returns back to the beginning of 1972. To me this seems much too short of time to come to any conclusions (for example, most of this time was during the great bull bond market). I also realize that US gold price info for the nearly 40 years pre-1971 is not available (or necessarily good), but if foreign gold prices are available it would be useful to have a longer examination of the Perm Portfolio characteristics.

Prior to 1972 the U.S. was on a gold standard so comparisons back before that date can be a problem. Internationally gold was a fixed price so comparing it across markets also would not be fruitful. With that said, Harry Browne and his team in the 1970s looked at a lot of data and financial history when designing the portfolio strategy. Sometimes data alone can't tell you enough though. And truth be told, I really think backtesting has limited usefulness because it can only show you what worked in the past, not what will work going forward. At that point it's going to come down to economic analysis and testing theories by analyzing extreme events and movements of capital to see what blew up and what didn't (and why).

As a side, the book also recommends holding gold in offshore accounts. I’m personally acquainted with a person that held approx $5m (or approx 5% of his net worth) of gold bars in an Italian vault. Early 2009, when things appeared their worst, he decided to have the gold bars shipped from Italy to the US. The shipping, security, and marine insurance costs were huge. His now deceased father originally purchased the gold in the early 1970s (and probably held offshore since he was worried about the US government calling gold stores again), but when things went bad he wanted his gold close by.

I don't have any input on storing gold in Italy. In the book we recommend people looking to store gold overseas only deal with countries that are stable, first-world, and have a history of respecting the private property of their citizens. I'm not sure I'd put Italy in all three categories so I'd avoid it personally. I think there are better places to consider first.

But even then, things change. The point of the geographic diversification is to give you options to deal with extraordinary events. In that way, it's providing another level of diversification for investors to consider.

All-in-all the “Permanent Portfolio” is a very interesting theory. A sort of "barbell" approach. I’m just not yet convinced that it’s the right approach for me.

And it may not be. The book presents a lot of ideas that we know people may pick and choose from for their own use. I think the portfolio is really good for people that:

1) Want stability and low volatility.
2) Will be happy with moderate returns instead of swinging for the fences.
3) Want wide and strong diversification against potentially serious market events.
4) Don't want to watch their portfolios very often yet still know it is growing safely.

With that said, if someone wants they can run a Variable Portfolio alongside their Permanent Portfolio for money they can afford to lose. So that's where I recommend people normally put more stocks, etc. if they want to try to goose returns (realizing it may not always work).

Thanks again for reading the book.

-- Craig

[hazlitt777]

I purchased the book and have not yet finished it. I need to get back into it. I have however read the original Harry Browne, Fail Safe Investing .

Gold seems to be the challenging component of the PP strategy for many here, and perhaps also the 25% long term treasury allocation.

I remember back in 2000 reading Bogle's book, Common Sense on Mutual Funds. I read it at least twice and made an outline of it, so much did I desire to master the material. I was drawn to Mr. Bogle's passion for protecting people and doing the right. As does Mr. Bogle, I see great moral issues involved in the field of investing. It has a lot to do with property rights I would suppose and people's right to be given a fair deal, and not be defrauded or robbed by games and tricks.

So I became a big fan of Mr. Bogle and developed a passion for investing...it was an intellectual and moral endeavor for me as much as a wealth building endeavor. Perhaps that is why I am drawn to this forum. I think many come here for the same reason, to give back.

About the same time, I came across gold as a financial asset. At first, my training in the Boglehead tradition put up a wall against including it in my portfolio. But I was fascinated by its unique history, physical traits, investment potential and its history as money. I had read a book by Michael Kosares, The ABCs of Gold Investing around the same time I read Mr. Bogle's book. I was struck by how much in common there was in the two philosophies, but there was this big difference...one author held gold to be an important financial asset, the other, a non essential speculative commodity.

I have come to see gold and the Boglehead tradition of trying to protect the little guy against the games of Wall Street as natural allies. They shouldn't be seen as mutually opposed or contradictory. This outlook admittedly has put me in an odd place. I feel like I belong here and yet I also feel I don't belong here. The fighter in me, partially coming from my Bogelian training, tells me not to give up.

Frankly, I just hope the conversation can continue and that if gold continues to grow in popularity, people will have the opportunity to invest in it with the wisdom and guidance of the same principles that we here apply to other financial assets. I don't want to see people panicing into gold at sometime in the future because it wasn't incorporated into a broader philosophy of investing. This wouldn't serve investors well, nor a proper understanding or use of gold.

I close with posting an article by Richard Russell I just came across today. It shows another man imho that also advices people from a sincere belief in helping/protecting people. I don't agree with everything he writes or advocates, but I appreciated this article because it demonstrates we are all in this together and have to put our heads together to come up with the best synthesis possible for the good of our friends and family. Gold might be something that could help a few of us here. I just hope we can always civilly agree to disagree, but never opt to shut down the dialogue.

[OT link deleted by admin alex]

[Clive]

I've looked at the Permanent Portfolio for years. After due consideration, I opted for a Larry Swedroe approach to my portfolio

Would that be Larry's Fat Tail Minimisation blend Steve? 15% Small Cap Value, 15% Emerging Markets, 35% 2 year Treasury, 35% TIPS?

I came to a somewhat similar conclusion, but with a twist - holding gold instead of EM, utilising LETF's, and rate tarting the 'bonds' to roll around the yield curve to near the peak of the steepest part of the yield curve. VFITX is perhaps a reasonably close proxy of that. For partnering with LETF - TIP seems to be a good choice (rebalancing at most once each year).

7.5% UVT, 7.5 TIP (as a proxy for 15% SCV)
5% UGLD, 10% TIP (as a proxy for 15% gold)
Remainder (70%) in VFITX

The yield curve provides a value measure and as the best indicator of tomorrows yield curve is todays, buying near the steepest part means that if everything stays the same that will see the yield drop the fast (price rise the fastest) a year later. If there's better value to be had elsewhere (on a net real (after taxes, cost, inflation) basis) then switch.

With 5% in UGLD (3x gold) and no intention to rebalance for a year, the most you can lose in a single year should gold prices collapse is that 5%.

Of all roads to (from) Dublin I prefer the Mótarbhealach M1 for its smoother, straighter ride

[steve roy]

I've looked at the Permanent Portfolio for years. After due consideration, I opted for a Larry Swedroe approach to my portfolio

Would that be Larry's Fat Tail Minimisation blend Steve? 15% Small Cap Value, 15% Emerging Markets, 35% 2 year Treasury, 35% TIPS? ...

Of all roads to (from) Dublin I prefer the Mótarbhealach M1 for its smoother, straighter ride

When I say "Swedroe approach," I mean I'm tilted heavily to small cap/small cap value, with lots of short term bonds (Vanguard ST Federal and Short Term Investment Grade; 45% of my bonds are in Vanguard's longer duration TIPS fund.)

I was in sector funds -- Precious Metals and Energy, also Health -- for a long time, but in the past year I've ditched the sectors (including REITS) and gone for broader indexes for simplification purposes.

My hope is that the tweaking will smooth and widen my Dublin interstate. I'm also hoping for a tailwind ... and downhill grade.

[Clive]

Were these expenses considered when calculating the hypothetical Perm Portfolio return?

I don't think you've received the reply you were looking for. I suspect taxes weren't considered - but that's just a guess as I haven't (nor to I have any intention to) read the book. According to research by Legg Mason Capital, in the US over the last 50 years dividends have been taxed on average at a rate of 50%



SInce 1972, very broadly speaking, dividends averaged around 4%, bonds and cash around 8%. A 50% average tax rate on that and 25% allocation to each amounts to a very broad 2.5% average portfolio tax liability that should perhaps be discounted from the figures you're reading. Whilst more tax efficient options are more recently available, that was not the case historically. A classic 4x25 Permanent Portfolio (T-Bills for the 25% cash proportion) yielded around a 4.5% real (after inflation) reward 1972 - 2011 inclusive according to Simba's spreadsheet data. Deduct an average (ballpark) 2.5% tax from that and maybe 2% net real rewards excluding other costs/taxes.

Many investors intentionally switched out of income producing investments in the 70's/80's in favour of less heavily taxed capital gain/accumulation type investments.

[Clive]

My hope is that the tweaking will smooth and widen my Dublin interstate. I'm also hoping for a tailwind ... and downhill grade.

And no toll's - one not so good thing about the M1 road to/from Dublin.

Thanks.

[craigr]

Were these expenses considered when calculating the hypothetical Perm Portfolio return?

No they weren't because nobody else applies those expenses to their portfolio testing either. As a matter of course, so to keep the benchmark consistent, we don't apply expenses as they are too variable.

We discuss this in the book that there are a few places where taxable income is an issue in any investable asset and each investor needs to decide how to deal with them. But with that said, the vehicles used can be very tax efficient or sheltered to reduce taxes as each person's situation warrants.

However, I run this portfolio as an almost 100% fully taxable investor. The annual tax load and expenses are extremely low. As low as what I've ever used in the past and likely to remain that way due to the passive nature of the strategy. I am acutely aware of investing expenses and limit them where appropriate. Even then, I don't feel like the Permanent Portfolio is losing out to anything else I've seen or done in nearly 20 years of investing.

[Clive]

SInce 1972, very broadly speaking, dividends averaged around 4%, bonds and cash around 8%. A 50% average tax rate on that and 25% allocation to each amounts to a very broad 2.5% average portfolio tax liability that should perhaps be discounted from the figures you're reading

Looking a bit closer, taxes 1972-2011 on :

10 year treasury yields (I don't have US 25 year yield data going back to 1972, 10 year yields shouldn't be too far adrift)
One year interest rates (cash)
S&P Composite dividend values/yields

it looks like a Permanent Portfolio had :

9.47% annualised gross nominal
6.47% annualised net nominal
4.36% annualised inflation
4.9% annualised gross real
2.0% annualised net real

It would appear that taxes in being higher during times of higher levels of inflation/yields uplifted that 2.5% approximation I estimated earlier to more like a 3% average tax overhead.

That excludes any additional overheads (capital gains, taxes on gold, costs etc).

Fund management and trading fees were a lot higher back in the 1970's than now, and when you factor in other overheads such as http://danielamerman.com/articles/2012/GoldHisA.html ...In other words, had we bought gold in 1978 and sold in 2007, then the government would have taken 100% of our gold asset inflation profits, and helped itself to 10% of our starting net worth as well...

Bear in mind I'm looking at it from a pessimistic/worst case angle here. Back in the 70's and 80's for instance a practice was to sell assets just prior to going ex-dividend and buy back again after the asset had gone ex-dividend, so that gains arose more out of less heavily taxed capital gains rather than more heavily taxed income. Tax rules however have since been changed to plug such 'gaps', but on the plus side is that there are now more tax efficient options within which you can invest.

[Clive]

Were these expenses considered when calculating the hypothetical Perm Portfolio return?

No they weren't because nobody else applies those expenses to their portfolio testing either.

Not everyone just looks at gross nominal. Net real is something that should be more widely adopted IMO - even if those figures just reflect the average basic rate taxpayers average result as a guideline. Historically the likes of Credit Suisse/First Boston, Barclays etc. have provided each of gross nominal, real and net real figures - at least for instance in the copies of the CS/FB Equity/Gilt Study 1999 and Barclays Equity/Gilt study 2011 copies that I have to hand.

Net real is an important issue. Take for instance $10,000 of gold bought, that 5 years later is worth $11,041 i.e. 2% annualised gain - over a period when inflation annualised 2%.

The investor pays 28% tax (collectibles?) on the £1041 'profit'. They also perhaps paid a 5% spread on bid/ask prices (2.5% above spot purchase price, 2.5% below spot sell price), and 0.5% yearly costs for storage/insurance.

Whilst the price of gold kept up with inflation, the investor in gold achieved zip - no different to had they stuffed $10,000 into a mattress for the 5 years. Little different to having had a gold confiscation - taking your gold at one price, to then deflate the dollar and let you buy back (less) gold with those deflated dollars.

The taxation and costs might take many forms, suddenly raising taxes at a tax reform, introducing or increasing sales or purchase taxes ..etc. As with any investment, there are potential tax traps (confiscations) that might be sprung at any time - but more likely when you least wanted to be caught out. Looking backwards at returns in disregard of such issues is just a highlight of something that perhaps no one could actually achieve.

[brianbooth]

Not everyone just looks at gross nominal. Net real is something that should be more widely adopted IMO - even if those figures just reflect the average basic rate taxpayers average result as a guideline. Historically the likes of Credit Suisse/First Boston, Barclays etc. have provided each of gross nominal, real and net real figures - at least for instance in the copies of the CS/FB Equity/Gilt Study 1999 and Barclays Equity/Gilt study 2011 copies that I have to hand.

Net real is an important issue. Take for instance $10,000 of gold bought, that 5 years later is worth $11,041 i.e. 2% annualised gain - over a period when inflation annualised 2%.

The investor pays 28% tax (collectibles?) on the £1041 'profit'. They also perhaps paid a 5% spread on bid/ask prices (2.5% above spot purchase price, 2.5% below spot sell price), and 0.5% yearly costs for storage/insurance.

Whilst the price of gold kept up with inflation, the investor in gold achieved zip - no different to had they stuffed $10,000 into a mattress for the 5 years. Little different to having had a gold confiscation - taking your gold at one price, to then deflate the dollar and let you buy back (less) gold with those deflated dollars.

The taxation and costs might take many forms, suddenly raising taxes at a tax reform, introducing or increasing sales or purchase taxes ..etc. As with any investment, there are potential tax traps (confiscations) that might be sprung at any time - but more likely when you least wanted to be caught out. Looking backwards at returns in disregard of such issues is just a highlight of something that perhaps no one could actually achieve.

I also just finished reading the book (nice job, Craig) and here are a couple thoughts on risk & mitigating storage and tax costs:

If you've got IRA space, an ETF saves on taxes but has some security risk. Otherwise, hold it physically in a good, hidden safe (or 2 or 3). It may sound risky, but between a security system and a good floor safe mounted in the concrete under your garage refridgerator, nobody is going to get their hands on it. If the unthinkable happens (earthquake, tsunami, Edward Norton) that's what insurance is for . As for tax reporting of your physical transactions, dealers are only required to report large sales for select types of bullion. http://www.usagold.com/cpm/privacy.html So yeah, just buy American Eagles, 100 Corona, Pesos, Sovereigns, 20 Francs, or some other popular but non-reportable type of coins if you foresee yourself ever walking into a coin dealer to sell more than $40 grand worth of gold. If not, don't worry about it. If the reporting laws were to change, you could always go the private/e-bay route.

But wait, what about gold confiscation? Don't we want it held overseas? A couple thoughts on that as well:
1. Confiscation won't happen. Harry Browne was worried about it because they'd just gotten off the gold standard and confiscation was fresh in their minds. Ask an economist how likely we are to go back to the gold standard and he'll tell you it's about as likely as the army going back to horses and chariots.
2. Even if it did happen, you'd have plenty of warning. The Fed, the President, and both branches of congress would have to agree (lolz) so you'd have lots of time to get it somewhere safe.
3. They'd have to find it to take it.
4. Even if the Fed kicked over your fridge and found your pot of gold, they'd be using the eminent domain laws to seize it and would have to pay you fair market value just like they did back in the day.

[craigr]

Were these expenses considered when calculating the hypothetical Perm Portfolio return?

No they weren't because nobody else applies those expenses to their portfolio testing either.

Not everyone just looks at gross nominal. Net real is something that should be more widely adopted IMO - even if those figures just reflect the average basic rate taxpayers average result as a guideline. Historically the likes of Credit Suisse/First Boston, Barclays etc. have provided each of gross nominal, real and net real figures - at least for instance in the copies of the CS/FB Equity/Gilt Study 1999 and Barclays Equity/Gilt study 2011 copies that I have to hand.

Net real is an important issue. Take for instance $10,000 of gold bought, that 5 years later is worth $11,041 i.e. 2% annualised gain - over a period when inflation annualised 2%.

The investor pays 28% tax (collectibles?) on the £1041 'profit'. They also perhaps paid a 5% spread on bid/ask prices (2.5% above spot purchase price, 2.5% below spot sell price), and 0.5% yearly costs for storage/insurance.

Clive,

The tax is not 28% as people commonly cite. It's 28% or your marginal rate, whichever is lower. Most people are not going to pay the 28% rate. First of all, as you know, any portfolio is going to be taxed. It is not unique to the Permanent Portfolio. Then there are mitigating factors such as:

1) Are you writing off losses to offset gains?
2) Do you have any of it tax-deferred?
3) Are you using extremely tax inefficient asset classes like TIPS outside of tax-deferral space?
4) Do you live in a state with high taxes?
5) How often are you in the portfolio monkeying around causing taxable events?
6) Are you using actively managed funds or high turnover passive fund causing big taxable distributions?
Etc.

So even if someone is posting Gross and Net numbers there are a ton of mitigating factors involved.

FWIW. I had created a spreadsheet years back that applied historical US tax rates, and even variable future tax rates, to a host of passive index portfolios and the worst were slice and dice portfolios in terms of passive indexing. The reason is they had a lot of internal churning for rebalancing and that gives an opportunity for unnecessary capital gains. The funds also tended to have higher expense ratios and internal turnover leading to more taxes as well. The Permanent Portfolio tends to do better because:

1) It only owns four asset classes that can easily be purchased in a passive manner.
2) The assets are also cheap and have very low internal turnover.
3) It has very wide rebalancing bands so you are leaving things alone and not paying unnecessary taxes.
4) The assets it holds tend to do OK in terms of taxes. Even much-maligned Treasury bonds can do OK because they are exempt from state taxes on income.

And again, I personally run the portfolio as an almost 100% taxable investor. If there was a tax problem with the portfolio, I'd know it and I wouldn't be using it.

Brian,

The issue really is not that someone may be concerned with government taking things that aren't theirs, although that is always a possibility. It's more of a final way to diversify against very extreme events. Perhaps even events that affect your country/region's financial systems. It could be natural disaster, manmade events, computer attacks, etc. Having some assets outside the country where you live gives you options to respond to extraordinary events. I've been working in the computer security field now for over 20 years now and have seen a lot of stuff. In an age of complicated electronic systems managing trillions in assets, it is a really good idea to spread your money around!

[wesleymouch]

CraigR is right
The PP is the only portfolio that I know of that addresses fat tail events such as currency devaluation, confiscation of assets and hyperinflationary events. Just think that an Icelandic investor would have survived with most of his assets after a complete collapse of his currency if he/she had been using the PP.

[Clive]

1. Confiscation won't happen. Harry Browne was worried about it because they'd just gotten off the gold standard and confiscation was fresh in their minds. Ask an economist how likely we are to go back to the gold standard and he'll tell you it's about as likely as the army going back to horses and chariots.
2. Even if it did happen, you'd have plenty of warning. The Fed, the President, and both branches of congress would have to agree (lolz) so you'd have lots of time to get it somewhere safe.
3. They'd have to find it to take it.

Things have moved on since direct confiscation. Confiscation however has and continues to happen to anyone who pays tax on nominal gains.

If both gold and consumer goods equally rise $100 compared to what the same basket of goods cost a year prior (assuming broadly that gold maintained 'purchase power' in nominal terms), and you pay say 15% or 28% tax on that $100 nominal 'capital gain' then some of your gold was 'confiscated'.

Harry wrote somewhere something along the lines of how printing money benefits the counterfeiter, who exchanges those notes for something else - at the expense of all others who see the value of their notes devalued due to more being in circulation. Taxing nominal gains prevents holders of gold from being immune from such activity.

The tax is not 28% as people commonly cite. It's 28% or your marginal rate, whichever is lower. Most people are not going to pay the 28% rate. First of all, as you know, any portfolio is going to be taxed. It is not unique to the Permanent Portfolio. Then there are mitigating factors such as:

1) Are you writing off losses to offset gains?
2) Do you have any of it tax-deferred?
3) Are you using extremely tax inefficient asset classes like TIPS outside of tax-deferral space?
4) Do you live in a state with high taxes?
5) How often are you in the portfolio monkeying around causing taxable events?
6) Are you using actively managed funds or high turnover passive fund causing big taxable distributions?
Etc.

So even if someone is posting Gross and Net numbers there are a ton of mitigating factors involved.

That's the point Craig. Low cost, tax efficient, diverse. Which is not a constant choice, it will vary from year to year. The 'Permanent' Portfolio isn't Permanent. 50% exposure to high yields, high taxes in the 1970's/1980's for instance in holding STT/LTT wasn't an appropriate choice at that time. 15% inflation, 15% nominal yield and high taxes on those yields paints entirely different pictures compared to when ignoring taxes.

In some situations a low visual footprint can be appropriate. Say 15% Small Cap Value, 15% physical gold buried somewhere, 70% hard cash stuffed into a mattress - which might uplift the whole in line with inflation on a net real basis, but have only 15% exposed to 'confiscations'. Not that I'm suggesting such an asset allocation is appropriate nor consistent at inflation hedging (just an arbitrary example).

[craigr]

That's the point Craig. Low cost, tax efficient, diverse. Which is not a constant choice, it will vary from year to year.

It is not possible to model the complexity of taxes on a portfolio as it would apply to each person. It is not possible to even guess what the tax impacts will be going forward because nobody knows them for any portfolio.

I avoided the problem because when you look at taxes long term you get only three main areas where they are going to get you:

1) Interest
2) Dividends
3) Capital Gains

Even then, all things considered, capital gains are the only source of taxable event where *you* get to control when you pay the taxes. So when optimizing the portfolio for taxes, I would suggest that assets that pay you in capital gains vs. other forms of income are better if you can't shelter them.

So in my world I'm not interested in moving around my portfolio based on what I think is going to happen. Instead:

1) Don't own assets that have a high management fee to keep more money.
2) Don't own assets that have a high turnover so you avoid unnecessary capital gains.
3) Don't go chasing needlessly after high dividends/high interest at the expense of capital gains sources.
4) Don't go in and monkey around with the portfolio causing your own unnecessary capital gains.
5) Leverage existing tax-deferral vehicles to shield those assets that have higher than you'd like taxes.
6) Don't invest in portfolio strategies that require constantly moving money around by following active strategies, timing systems, gurus, etc.

In the past you have suggested people use leveraged ETFs and trend following market timing among others. You are welcome to start a new thread here and explain why these approaches will beat a passive portfolio in terms of tax load.

[brianbooth]

Things have moved on since direct confiscation. Confiscation however has and continues to happen to anyone who pays tax on nominal gains.

If both gold and consumer goods equally rise $100 compared to what the same basket of goods cost a year prior (assuming broadly that gold maintained 'purchase power' in nominal terms), and you pay say 15% or 28% tax on that $100 nominal 'capital gain' then some of your gold was 'confiscated'.

Harry wrote somewhere something along the lines of how printing money benefits the counterfeiter, who exchanges those notes for something else - at the expense of all others who see the value of their notes devalued due to more being in circulation. Taxing nominal gains prevents holders of gold from being immune from such activity.

I agree completely - part of capital gains taxation is an (unfair) inflation tax. But, as was pointed out, it's a pretty easy tax to avoid if you physically hold the right type of bullion. Frankly, you'd think that the Canadians would be ticked about their gold coins' transactions being reportable while the US Mint's are not. Isn't NAFTA supposed to prevent that sort of thing?

[Clive]

Measuring in net real terms rather than gross nominal, reveals how including some borrowing to be another form of diversification. What works counter for you on one side (buying an asset priced in dollars that decline in value and paying taxes on nominal gains), can work for you on the opposing side (debt erosion by inflation).

A common failing however is that many use leverage to scale up risk exposure in expectation of higher rewards - which isn't usually the outcome. The context in which I suggest using leverage is as a means to achieve the similar/same risk exposure, but by doing so with some borrowing that is countered by a hedge. Instead of 25% S&P500 for instance, 12.5% SS0 (2x SPY), 12.5% TIP. That is just one form however, others might be more appropriate according to your objectives. Buying a 12 month Future for instance in effect locks in at the current annual finance fee at the time. If subsequently finance fees rise you relatively benefit. Futures/Options are also useful for buying/selling volatility. Buy/add when volatility is relatively low, sell/reduce when volatility is relatively high, and even though the underlying might not have changed in price you might benefit from the changes in volatility.

Including elements of both trend following and mean reversion is yet another means to diversify.

So, if you've got a better solution

Dynamics. Portfolio evolution to best address risk/reward targets and tax/cost efficiencies. Not a single permanent portfolio. That doesn't have to be predictive, although an element of prediction may be incorporated - but rather just reactive, to events/conditions evident at the time. Suggesting a rigid fixed portfolio allocation that you stick with through thick and thin, isn't a good choice. As I said before, treasury yields and cash interest up at 15% levels in the 70's/80's when inflation was 15%, and paying perhaps a third or more of that in taxes was a significant drag factor that most 'look at how it performed historically' snapshots either intentionally or unintentionally choose to ignore. More tax efficient investment choices weren't available back then.

[Clive]

2. Page 144 says “gold does best under high-inflation scenarios” and “in terms of purchasing power protection, gold has a long term track record that is unmatched”. Are these statements true? How long is “long term”? From the evidence I’ve seen it appears that gold tends to react favorably to inflationary environments, but not always.

Gold is a fail-safe asset in the portfolio. It is not going to grow like stocks and bonds because it has no internal rate of return. I do not dispute this. What I do suggest though is that gold has a much different risk profile than stocks and bonds and this can aid tremendously for diversification. Especially if that diversification is needed in a crisis.

I think it's a really good idea to have some of your profits from stocks and bonds as well as other savings stored in a way that has a long history of surviving pretty hectic times. After all, sometimes stocks and bonds are not providing real after-inflation returns as has happened in the past. In that case, gold may be the only asset you have that's growing in excess of actual inflation. Not just this, but gold as an asset can be stored overseas as we discuss in the book to give you geographic diversification against natural or manmade disasters.

But mainly, gold is an insurance asset and also an asset that tends to do well when stocks and bonds are not. However, it can go into the doghouse as well and that's when the stocks and bonds can take up the slack historically speaking.

Why 25% gold? Why not 10% or 50%?

UK 1919 to 1999 and comparing stocks with precious metals, in around 66% of years stocks > PM. Whilst history might not repeat, that is perhaps a better basis to initiate from. 66% stocks, 34% gold. That's somewhat imbalanced however on the volatility front - Small Cap Value had a more volatility match with gold. 66.6% SCV, 33% gold. But you don't know at the time of purchase whether you're paying a relatively high or low price for an asset - better to cost average the purchase price, the easiest way of achieving that is to 50-50 blend with cash/safe bonds and periodically rebalance. 33% SCV, 17% gold, 50% VFITX (5 year Treasury).

If two runners repeatedly race and win $100, Kelly's suggests weighting your stake to the frequency of wins. If stocks win in 66% of races - weight that more heavily than gold. Whilst that doesn't guarantee that the same frequencies will occur in the future, there may be some underlying reasons why those frequencies occurred, that could persist into the future. That might be just a simple consequence such as generally tending to spend two-thirds of time in prosperity to each one third in depression. Stocks are renowned for their taking the stairs up, elevator down type motions.

Out of samples, how did that perform? Japan 1972 to 2009 stocks won over gold in 56% of years. US 2000 to 2011 33% SCV, 17% gold, 50% 5 year T provided better absolute and risk adjusted rewards than the Permanent Portfolio. Ditto US 1972 - 2011.

Taking a beating on the tax on income front (dividend, cash interest), then move more towards fully loading 66% SCV, 33% gold to reduce that overhead (but more volatility). Tax efficient cash/bond options available and/or stocks or gold looking a bit heady, scale that down to 33/17/50 levels again, perhaps even lower if your comfort level depicts.

There's more than one road to Dublin. Sticking to a single permanent road without every deviating may work out OK for a while, but sooner or later if there's a snowstorm or high winds have blown trees down across that road !

[craigr]

Why 25% gold? Why not 10% or 50%?

I'm not here to argue with Excel Solver and endless backtests of arbitrary dates and asset percentages selected to make a specific point. Finding what did best in a portfolio backtest is easy and there are infinite combinations. But you know people point out these arbitrary date ranges to try to make a point and I think they are kind of worthless without any context. So you'll criticize the portfolio for not being "predictive", then you post up dates from the UK from 1919-1999? Why stop at 1999? Or why start in 1919? Why not 1929? Etc.

But then again look at that date range and you have major events like WWII and of course we know how those things turned out now, but I wonder what people were thinking when London was burning? Or Dresden? Or Tokyo? How about markets over the same time in Berlin, Tokyo and London? How'd they do and what investors really captured those absolute returns?

This isn't even saying you need some massive destructive events to have markets do unpredictable things. How many predictions work out for U.S. markets even though no such destructive events occurred? None better than chance.

So history cannot be shown in a spreadsheet and people that optimize to a spreadsheet are just fooling themselves. History just isn't that kind so diversifying against an unknown future is a really good idea.

Once again, it's fine to debate the merits of anything. But unless you are offering a solution that is actionable and provably better (and not in hindsight) then we just don't have anything further to discuss. I don't think trend following, leverage, options, "dynamic", and "predictive" portfolio allocations are going to do any better. In fact, they are likely to do much worse. Good luck...

[Clive]

it's fine to debate the merits of anything. But unless you are offering a solution that is actionable and provably better (and not in hindsight) then we just don't have anything further to discuss

Fair enough. Discussion of merits and/or pitfalls alone of a particular asset allocation/strategy without having to offer specific solutions is productive in itself. If you're not happy with that then just ignore the postings.

Pitfall. A US Permanent Portfolio since 1972, band rebalanced for a taxable account higher rate taxpayer would have provided a -0.82% annualised real to the end of 2011 based on just income taxes alone - excluding capital gains and costs.

The concept of writing off losses to offset gains is variable, depending upon whether you use LIFO, FIFO or average cost accounting. Generally the nominal gains have been such that tax harvesting wasn't a very productive activity, perhaps involving having to sell all of an asset and then buy back again to harvest relatively small nominal tax losses. Generally capital gain taxes vastly outweighed capital loss offsets - due to nominal values rising in reflection of inflation. A well run tax minimisation approach would have 'improved' the annualised net real gains to around -1.53% level (after income and capital gains taxation) - but that would have involved more/larger trading. A less well run tax minimisation approach saw a lower -3.44% annualised net real.

Taking extremes of gross real +4.5% in one hand (as seems to be a common suggestion that the Permanent Portfolio has/will provide) and net real -3.5% in the other, its perhaps not unreasonable to approximate that historically the average case might have fallen around midway between the two. I suspect however that it would be more towards the lower end than it would be towards the higher end due to capital gain taxes being more of a constant across all (most) tax bands.

During a boom period taxes typically decline, but rise again during bust periods. Whilst low/no tax efficient options have been made available over the last couple of decades, the tendency is more likely to be towards rising taxes/reducing tax efficient options going forward from present. Some governments have even resorted to elements of taxation adjustments with retrospective taxation - a practice not usually employed in the past (tax traps being sprung with not forewarning).

[Clive]

The 1972 equivalent of a 2012 single person in a $55,000 - $65,000 tax bracket, who invested in the Permanent Portfolio at the start of 1972 (dividends reinvested) and sold ten years later would have seen a -0.72% annualised net real (after taxes and inflation) loss.

A higher rate taxpayer would have seen a -4.73% annualised net real loss.

Simba's spreadsheet in contrast indicates a +3.6% annualised real gain over those same years.

That's something to keep in mind when some utilise spreadsheet data to present how good an investment performed historically - but who then argue that you shouldn't use spreadsheet data in other cases.

[Browser]

I agree - owning a bunch of gold does provide some insurance for rare "left tail" events such as currency collapse, hyperinflation, etc. I believe in having some insurance to protect myself from catastrophic one-off events, so I have homeowner's insurance and auto insurance, and I own a little gold. But paying 25% of my financial portfolio value for one form of insurance? Who would do that except a doomsday prepper?

[Clive]

I agree - owning a bunch of gold does provide some insurance for rare "left tail" events such as currency collapse, hyperinflation, etc. I believe in having some insurance to protect myself from catastrophic one-off events, so I have homeowner's insurance and auto insurance, and I own a little gold. But paying 25% of my financial portfolio value for one form of insurance? Who would do that except a doomsday prepper?

Or those enduring (or at risk of) state repression. Replacing a 60-40 bond element with physical gold held in a low/no tax geographic location has a lower footprint. If non dividend paying stocks are held across a range of geographic brokerages as well the footprint may be zero (US regime excluded). The investor is more in control as to when taxable events are created, rather than having no control over regular payments (dividends) that might be subject to punitive levels of taxation. Whilst volatile, that volatility can be reduced by scaling down both stock and gold exposure. Even at 30-20 stock/gold and 50% stuffed into a mattress (or held in a range of hard cash foreign currencies) the rewards are potentially good enough to counter inflation for the whole 'portfolio' value.

[clacy]

I agree - owning a bunch of gold does provide some insurance for rare "left tail" events such as currency collapse, hyperinflation, etc. I believe in having some insurance to protect myself from catastrophic one-off events, so I have homeowner's insurance and auto insurance, and I own a little gold. But paying 25% of my financial portfolio value for one form of insurance? Who would do that except a doomsday prepper?

Or those enduring (or at risk of) state repression. Replacing a 60-40 bond element with physical gold held in a low/no tax geographic location has a lower footprint. If non dividend paying stocks are held across a range of geographic brokerages as well the footprint may be zero (US regime excluded). The investor is more in control as to when taxable events are created, rather than having no control over regular payments (dividends) that might be subject to punitive levels of taxation. Whilst volatile, that volatility can be reduced by scaling down both stock and gold exposure. Even at 30-20 stock/gold and 50% stuffed into a mattress (or held in a range of hard cash foreign currencies) the rewards are potentially good enough to counter inflation for the whole 'portfolio' value.

You're getting awfully close to a PP here Clive

[wesleymouch]

David Ranson of Wainwright Economics has calculated that a 15% gold position will insulate a portfolio from hyeprinflation ( and hense currency collapse)

[Clive]

You're getting awfully close to a PP here Clive

In a very broad sense many portfolio's are much the same.

Benjamin Graham - 25% to 75% stocks
John Bogle - diversify, minimise costs and taxes.

Locking into fixed weightings in single assets breaches those guidelines. If inflation is 15%, bonds yield 15%, but taxes on income are 33% you're just handing over a third of your inflationary uplift to the tax office. A mantra of thou will always hold 25% in long dated treasury under such conditions violates minimise taxes.

[MediumTex]

Clive,

With all of the reservations you now have about the PP, how did you ever bring yourself to commit a significant part of your portfolio to it (with good results) a couple of years ago?

Were you not concerned then about all of the things you are concerned about now?

From reading your recent posts a person would never guess that you were a very recent PP user yourself who had good results using the strategy.

***

As far as the tax issues go, the PP is about as tax efficient a strategy as you will find anywhere. With rebalancing events only every two years or so, transactions are pretty minimal, and rebalancing events often allow losses to be locked in that can be used to offset gains. When tax deferred accounts are brought into the picture, a new PP'er with 50% of his money in tax deferred accounts could literally run his portfolio for years or even decades while triggering almost no taxes at all on the overall portfolio.

For everyone who has made the investment of time and money to read our book, thanks. It's been a lot of fun to get such positive feedback from those who have read it.

[Clive]

MT. I owned gold going back from the early 2000's and dumped the lot approaching 2 years ago. I've never held a Permanent Portfolio any more than you might say that as I've held both stocks and bonds that I've invested in any a one specific lazy portfolio.